Applicability Of Depreciation

Depreciation is the systematic allocation of the depreciable amount of an asset over its useful life. The depreciable amount of an asset is the cost of an asset or other amount substituted for cost, less its residual value. The useful life of an asset is the period over which an asset is expected to be available for use by an entity, or the number of production or similar units expected to be obtained from the asset by the entity.

Is it compulsory to charge depreciation? :

Charging depreciation is compulsory if the company wants to declare dividend or for payment of managerial remuneration. Charging depreciation is also mandatory as per the applicable accounting standards in order to give a true and fair view.

According to section 123(1):

         No dividend shall be declared or pad by a company for any financial except: 

                  i)out of profit of that company for that year arrived after providing  for depreciation or,

1. ii) out of profits of the company for any previous financial years arrived at after providing depreciation or,

                 iii) out of both

Depreciation for idle Asset:

Depreciation is a measure of the wearing out, consumption or other loss of value of a depreciable asset arising from use, effluxion of time or obsolescence through technology and market changes, therefore the asset is continued to be depreciated even if its remains idle. Moreover the useful life of an asset encompasses the entire time during which it is available for use and therefore the same should be depreciated over its entire useful life regardless of whether during that time it is in use or it is idle.

Disclosure of depreciation in Schedule III:

A Reconciliation of the gross and net carrying amounts of each class of assets at the beginning and end of the reporting period showing additions, disposals, acquisitions through business combinations and other adjustments and the related depreciation loss/reversals shall be disclosed separately.

                        Hence it is required to disclose depreciation for each class of asset.

As per AS 10:

Depreciation of an asset begins when it is available for use, i.e., when it is in the location and condition necessary for it to be capable of operating in the manner intended by management. Depreciation of an asset ceases at the earlier of the date that the asset is retired from active use and is held for disposal and the date that the asset is derecognised. Therefore, depreciation does not cease when the asset becomes idle or is retired from active use (but not held for disposal) unless the asset is fully depreciated. However, under usage methods of depreciation, the depreciation charge can be zero while there is no production.

Depreciation as per schedule II:

Schedule II (section 123)

Schedule II to the Companies Act, 2013  requires depreciating the asset over its useful life. The depreciable amount of an asset is the cost of an asset or other amount substituted for cost, less its residual value.

If Company, being a class of company specifically prescribed by MCA, can adopt a different useful life longer than what is prescribed in Schedule II, however the same shall be disclosed, as Note on Accounts together with justification. For other companies, useful life cannot be longer than what is prescribed in Schedule II.

If the management’s estimate of the useful life of the asset is longer than that envisaged under the statute, depreciation rate lower than that envisaged by the statute can be applied only in accordance with requirements of the statute.” As Schedule II permits useful lives different from that specified in Part C of Schedule II, the useful lives specified therein are indicative only and therefore paragraph 13 of AS 6 now permits useful life longer than that specified in statute.

Effect of change in useful life:

For increase in the estimated life of an asset, the company has to include it in the notes to account regarding the change in the estimated life of an asset. So that the users of the financial statements come to know about the reason for change in the value of asset because when we change the estimated life of an asset it will definitely affect value of the asset because change in the amount of depreciation has direct effect on the value of the asset.

*When can an assets useful life be increased?

Assets useful life is usually increased when there is a material change in the value of the asset.

Material change can be either understood as:

1. Addition made to the value of existing asset.

                                    OR

1. When repairs and maintenance of the asset is carried out of capital nature.